The European Commission said on Tuesday it will consider banning the naked selling of derivatives contracts some EU politicians say were used by speculators to bet on a Greek bond default.

Commission President Jose Manuel Barroso also said the European Union's executive would like the G20 group of developed and developing nations to discuss speculation in credit default swaps (CDS), a form of insurance against default.

Naked selling involves selling a CDS to a buyer who does not hold the underlying sovereign bond. A naked CDS contract is typically a bet taken by investment firms like hedge funds that the bond will end up on the rocks.

A new, ad hoc reflection is needed on credit default swaps regarding sovereign debt, Barroso said.

In this context, the Commission will examine closely the relevance of banning purely speculative naked sales on credit default swaps of sovereign debt, he said.

EU finance ministers and the Commission are expected to discuss ways to dampen speculation on sovereign credit default swap markets at a meeting on March 16.

Barroso said the 27-nation bloc should tackle naked CDS selling in a coordinated way -- a sign the executive does not want a repeat of unilateral moves by member states to ban shortselling in bank shares in 2008 which confused markets.

Analysts say the CDS market is too small to drive down underlying bonds or the euro and warn that a ban could backfire by sparking sales in government debt.

The noose is tightening around the sector, however, as French Economy Minister Christine Lagarde said proposals on CDS selling would be unveiled in coming days.

Germany and Eurogroup President, Jean-Claude Juncker, have said they back such plans but so far Britain, the EU's main derivatives center, has not signaled any public support.

The G20 agreed last September that derivatives like CDS should be traded on an exchange and centrally cleared, where appropriate, in order to cut risk and improve transparency.

The Commission has already said it will propose a draft law this summer to turn those pledges into EU law but Greece, France and Germany want the bloc to go a step further and crack down on naked CDS selling.

A Commission proposal would have to be approved by a majority of EU finance ministers and the European parliament.

TRANSATLANTIC COOPERATION

Barroso said transatlantic cooperation among CDS regulators also needed raising and that a study of the CDS market should look for any questionable practices which could be dealt with under the bloc's competition rules.

In Washington, Greek Finance Minister George Papaconstantinou piled the pressure on its EU partners by calling for an outright ban on naked selling of CDS.

What has become very clear in this affair is that over and above the fiscal problems that any particular country...there are kinds of questions about what kinds of use people make of things like credit derivative swaps, how opaque these markets are, how it's not clear who's trading what and how these can push countries...to the brink, Papaconstantinou said in an interview on CNBC television.

(There should be) more transparency, a ban on naked selling, for example, Papaconstantinou said.

Britain is the EU's biggest CDS center and a bloc-wide initiative from the Commission -- as opposed to one from euro zone countries like France -- would likely have a bigger impact.

Barroso said that before the end of 2010, EU Internal Market Commissioner Michel Barnier will also propose beefing up the bloc's market abuse directive, which tries to prevent insider trading among other practices.

Two central bankers also stressed on Tuesday the need for central clearing of derivatives as part of wider efforts to make markets safer and learn from the financial crisis.

Chicago Federal Reserve Bank President, Charles Evans, said there was a need to study the CDS market carefully and that such products can offer hedges that can be valuable to firms.

Proposals to net CDS positions in a clearing house would be useful, Evans told reporters in Arlington, Virginia.

Bank of France Governor and European Central Bank Governing Council member, Christian Noyer, said clearing houses should be set up in each major currency area where CDS contracts are transacted and be locally supervised.

(Reporting by Marcin Grajewski and Luke Baker in Brussels, Tamora Vidaillet and Sudip Kar-Gupta in Paris, Harry Papachristou, Lesley Wroughton, Emily Kaiser and Mark Felsenthal in Washington; writing by Huw Jones; editing by John Stonestreet; Editing by Ron Askew)

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